Tuesday, December 18, 2018

Daily Writing

Things I’m thinking about

What will the world start to look like in the event of a liquidity crisis?

Market Observations

Major indexes traded higher at the start of the day. S&P and NASDAQ are both up 1.00%. However, the VIX[2], which is a gauge of fear in the market and trades inversely to the market, is only down 1.84% at the time of writing.

US Treasury yields continue to plummet. The yield on the 10-year Note sits at 2.85% while the yield on the long-dated 30-year Treasury Bill is 3.10%. WTI crude is down another 2.61% after dropping more than 3.50% yesterday.

The yield on the 10-year Japanese Government Bond (JGB) is threatening to move negative. The yield on 10-year JGB is now 0.01%. The Yen has also strengthened over the past few days. The USD/JPY cross-pair now trades at 112.500, 100 basis points off the highs a few weeks ago.

Despite heavy criticism from President Donald Trump, the Fed still intends to raise interest rates tomorrow (December 19). There are two key things to note here:

1) It is not normal for the US President to openly attempt to influence the interest rate policy of the Federal Reserve. The Fed is intended to exist as an independent body immune from political sway.

2) It is unusual for the Fed to raise rates in an environment where global growth appears to be slowing

China: Forty Years After Economic Reforms

Why is this significant?

Confidence in Xi, the regime, and the principles of “socialism with Chinese characteristics” are under threat. Chinese elites are really the only ones aware of this.

China’s leadership tends to be extremely cautious when making any public statements, so whenever a Chinese President makes an address like this, it tends to be big news.

The 40th-anniversary speech is especially significant because Xi Jinping revealed some revisions to his core position on two fronts:

Internal Chinese Communist Party politics and Chinese domestic policy

Foreign policy, especially regarding its stance toward the United States and on-going trade tensions between the two superpowers.

Internal Communist Party Politics and Chinese Domestic Policy

Xi Jinping has been transparent in his intention to consolidate both his power as General Secretary of the CCP along with his place in the history of communist China post-1949. In October of 2017, President Xi eliminated Presidential term limits and pushed to include his own version of Chinese socialism into the official party canon. Now he’s looking to overtake the legacy of revolutionary hero Deng Xiaoping. Deng Xiaoping is widely regarded as the father of modern China, as his reforms in the late 1970s and early 1980s are the catalysts behind China’s massive economic expansion over the past forty years.

Foreign Policy

Because the 40th anniversary of reform speech is one of Xi’s most high-profile public addresses since his meeting with President Trump at the G20 Summit in Buenos Ares at the beginning of the month, China watchers and analysts are following Xi’s speech closely, seeking clues into potential shifts in China policy.

Summarizing China

Our view is that China doesn’t have as much flexibility as it seems. China is dead-set on a shift toward re-orienting its economy to one based on consumption instead of investment. This means China would experience substantial growing pains even within an ideal economic climate.

Now, in the face of what could be a severe global economic slowdown, China has no choice but to capitulate to the demands of the Trump administration on trade in the short term. It’s doing this because it doesn’t want global attention toward the real problem, the fact that China is currently operating on an economic model that is no longer sustainable; namely, a model driven by export-led growth, infrastructure development, and massive imports of raw materials from developed neighbors such as Australia.

Can China fix its domestic problems before the next global slowdown really begins to take hold? According to my sources in China, the central government is facing a true crisis of confidence.